Protection, import restrictions aren't sweet for sugar

Protection, import restrictions aren't sweet for sugar

Ari A. Perdana, Centre for Strategic and International Studies (CSIS), Jakarta, Ari_Perdana@csis.or.id

In the past few months, even years, sugar has not been as sweet as it tastes. The word "sugar" is almost synonymous with "rent-seeking activities" on the one hand, and "controversy" on the other hand.

Last year, the influx of cheap imported sugar triggered protests from local sugarcane farmers and sugar producers. Politicians and bureaucrats then argued that the root of the problem was the low import tariff imposed on sugar.

However, it is a fallacious logic to believe that free trade on sugar is the root of the problem, and it is also fallacious to consider a high import tariff on sugar a solution. Until last year, the tariff imposed on imported sugar was still around 20 percent to 25 percent.

In addition, the weakening value of the rupiah since the crisis has also provided extra protection for local sugar. If local sugar is still uncompetitive in the domestic market, the only logical explanation is inefficiency and low productivity.

There are several reasons for the inefficiency and low productivity in the domestic sugar industry and sugarcane farming. Some of these are the quality of land, the obsolete technology applied in the farming industry and high labor costs, as well as factors related to market structure. All these have resulted in the inability of the domestic sugar industry to produce commodities of a higher quality and lower price, compared to imported sugar.

The inability of domestic sugar to compete with foreign competitors has often been linked to two other possible causes: Dumping practices by sugar producers of other countries and illegal imports. While dumping practices may be a probable cause, especially given the excess supply of sugar in the international market, it does not provide enough reasons for domestic sugar to be outcompeted.

The counterargument is very simple: Indonesia has an excessive demand for sugar. Last year's data shows that domestic consumption of sugar reached between 3 million tons to 3.2 million tons.

Of this demand, the domestic industry could only supply 1.7 tons annually, which means there is an excess demand of 1.3 million tons to 1.5 million tons. Compared with the total excess supply in the world market of between 0.5 million tons to 1.5 million tons, the local market in Indonesia is large enough to absorb the excess worldwide supply without other producers resorting to dumping.

As for illegal imports, while it is true that they are among the biggest problems faced by the domestic business sector -- not only the sugar industry -- the question is, how did illegally imported sugar enter the local market?

Apart from the chronic, but classical, problem of a dirty bureaucracy, standard economic theory says that a black market tends to arise every time competitive and regulated prices have reached parity. In this case, the import tariff raises the domestic market price higher than the overseas price, and hence provides an incentive for illegal traders.

The greater the price difference, the more incentives there are. As long as there are no improvements in the bureaucracy and law enforcement, raising the tariff or imposing trade barriers will only encourage more smuggling and give rise to more black markets, rather than solving the problems.

In responding to last year's sugar price crisis, the government decided to apply the restricted import policy on sugar. Around a decade ago, a similar policy imposed on cloves and oranges had successfully damaged the local economy.

The situation is not much different this time. A few months after the policy had been implemented, sugar had almost disappeared from the market, pushing up its price to more than Rp 5,000 per kilogram, and even Rp 6,000 per kilogram in some areas, which was about a 50 percent increase in price.

We read that late import orders, slow procedures and bad distribution channels, etc. are to blame for the disappearance of sugar from the market. All of these circumstances, however, only reveal that the economic rent in the sugar industry is very high, which subsequently tempts involved parties to take every chance to try and extract the rent. The sugar crisis also confirms a preposition in standard economic textbooks: A market mechanism may not always work, but a government (or policy) failure inflicts more damage to the economy.

Why not apply market mechanism -- including free international and domestic trade -- in the sugar industry? The popular argument against market mechanism is that the farmers would lose out in the free competition. However, we have seen that protection and a restricted import policy have failed to secure farmers' welfare.

In the current economic structure, the farmers' bargaining position against sugar factories is too low. At the same time, such a system increases price, thereby lowering consumers' buying power. Protection and anti-market policies only benefit rent- seekers -- capital owners in the inefficient and unproductive sugar industry, related importers and domestic distributors.

To save the domestic sugar industry without sacrificing the sugarcane farmers and consumers, there is no quick-fix policy. The only option is to increase productivity and improve efficiency. This also implies that factories that are unable to improve their productivity and efficiency should be allowed to follow the natural law of the market: Closure. If they are forced to survive, the social cost to the economy will be high.

Policies to protect farmers should also aim to improve farmers' productivity and efficiency. The economic structure that has been inherited from the colonial era should also be revised. Farmers should be given more flexibility in choosing which commodities they plant. Hence, they will not be dependent upon only one commodity, which, in the end, lowers their bargaining position.

Meanwhile, the market for sugar should be released into the market mechanism, meaning that the current sugar policy should be scrapped and imports freed. Government intervention should be focused on law enforcement, especially in dealing with illegal imports, and on improving distribution channels.

Under conditions in which the government is weak and the bureaucracy corrupt, policies that distort the market mechanism will only bring more damage. On the other hand, a market mechanism may not be the perfect solution. But in this case, the cost to the economy will be lower.